"I won't name names, but I invested with all the usual suspects -- name-brand investment banks and commercial banks, hedge funds, private equity and venture capital funds," says Checchi, who retired a few years ago after a career that included top positions with Marriott (MAR), the Bass brothers, Walt Disney (DIS) and Northwest Airlines (DAL), where he engineered a leveraged buyout and served as chairman. "I assumed they were professional. I was appalled."
The loss of faith in the professionals on Wall Street is a sentiment that has reverberated across the American investment landscape since 2008, amid mounting criminal convictions and civil fines for insider trading, and fraudulent marketing. Monday's bankruptcy filing by MF Global and the news of discrepancies in its books have only added to investor concerns.
But what's unique about Checchi's story is that he is willing to openly discuss what few wealthy investors will admit: Scandals aside, much of the harm caused to portfolios comes from standard operating procedures in the industry, practices Al Checchi calls "the difference between being a fiduciary and being predatory."
Checchi's story begins after he retired, when he asked his son Adam, a Harvard-educated computer science major and MBA, to analyze the family fortune, which Forbes listed at $600 million in 1997. (The Checchis wouldn't reveal the portfolio's current value.)
"I did the analysis on it and I was horrified," Adam says. "When I compared where they started and the money they put in relative to owning a basic index of stocks and bonds, they were far below that."
No Smoking Gun
Al Checchi, who was born into a middle-class Italian-Catholic home in Boston, and who spent $40 million in 1998 on an unsuccessful campaign for California governor, admits he wasn't paying close attention, and he makes no claims that his money managers engaged in illegal behavior -- they simply displayed an abysmal lack of ethics.
"There wasn't a smoking gun or a Bernie Madoff or a huge blow up in an investment," says Adam Checchi. Rather it was expensive advisory fees, brokerage costs, and short-term trading resulting in high taxes -- compounded over a quarter century – that diminished the portfolio. Those practices skimmed 4% to 5% off the family fortune each year, he estimates.
The Checchis do have a self-serving motive for sharing their disenchantment: Three years ago, they opened their own wealth management firm, Checchi Capital Advisers. Using technology to develop a proprietary trading platform, that claim they can give clients who have $5 million to $100 million maximum diversification -- exposure to every equity and bond globally -- at the more efficient pricing. Clients have separately managed accounts in which they own individual equities and bonds and greater flexibility to customize their portfolios.
The Checchis say their portfolio is built for very low turnover, to minimize trading costs and taxes. The management fee is 0.75%. While competing wealth managers can be close to that range, typically 1% to 2%, the Checchis say they don't have the hidden costs that wreaked havoc on their portfolio, nor do they steer clients to expensive products on which they make commission.
"In almost every other business, when technology improves, the customer gets better experience and a lower price, but not in money management," says Adam Checchi. "The gains in efficiency have been kept by Wall Street and not passed on to the customer. It's not transparent, you have no idea where they are making money and we want to change that."
'An Easy Get'
Nomi Prins, a former managing director with Goldman Sachs, described some of the Street's practices in her 2006 book, Other People's Money: The Corporate Mugging of America. Now an author and senior fellow with Demos, the liberal think tank, she confirmed the Checchi's assertions.
Wealth managers aren't necessarily given a specific percentage they are expected to extract from clients' assets, says Prins. "But it's a basic idea: If you have the ability to make money out of a certain set of clients, you will try to do that," she says. "The mandate from the top is to be profitable, and if you have an effectively captive fund that you can use to increase your bottom line, then it's kind of an easy get."
Adam Checchi said his family mistakenly expected an institutional philosophy to guide their asset management. "Some of the big banks will say, 'Welcome to Bank XYZ, where obviously your money is managed on an institutional basis.' The truth is, the person who manages the money has total discretion. You may be getting someone who is listening to mutual fund wholesalers tell them how much they can make selling those products to you."
Prins agrees the conflicts are problematic. "The companies that create securities that go in your portfolio should not be the companies managing your portfolio, even if they are separate parts of the firm," she says.
A former investment manager with a major Wall Street bank who had several hundred million dollars under management before she retired called that view a sweeping generalization. "I managed money and I could not care less what my firm was underwriting," says the manager, who asked not to be identified. "I didn't take bonds and place them in my clients' accounts. My clients wanted an underwriting more than I wanted to give it to them because they hoped it would be a hot one. I thought the best way to retain the most assets long-term was to make my clients money -- and the way to do that was to be decent and honest and have a good rate of return."
Beating the Indexes
The last few years have also reminded investors that few money managers can beat the returns of an index fund, which mirrors the performance of the market as a whole. And index funds are a lot cheaper.
Over the 23 years ending in 2009, actively managed funds trailed their benchmarks by an average of one percentage point a year, according to a Wharton research paper. Meanwhile, the average actively managed stock fund costs 1.3% annually (or $1.30 for every $100 under management) and the average bond fund 1% -- while index funds fees run as low as 0.5%.
Here's what that looks like for rich people: If you put $10 million away for 20 years and it grew at an average of 8%, and you paid 2% in excessive costs, you would lose $14.5 million, or 145% of your original principal. (That includes the compounded rate of return on those fees if they'd been left in the portfolio.) "If you were to ask me what my folks missed out on, it was somewhere around that factor on their savings," says Adam Checchi.
"People buy into brand names thinking their guy or gal sitting in the office can outguess collective millions of investors across thousands of assets out there," he continues. "It makes no sense but that's what people believe. The compact people had with their broker-advisers was they knew how to zig and zag, and that's what they paid them for. Suddenly, their faith in the guy or gal went away because everybody had the same experience [in 2008] and it was terrible."
Greed and Defensiveness
The Checchis skepticism deepened after Wall Street handed out $18.4 billion in bonuses in 2008, the sixth-largest payout on record, according to the New York State comptroller. The haul rose by 17% in 2009 to $20.3 billion.
"I truly don't think Wall Street has done itself any favors in the last couple years by continuing to demonstrate a level of greed and defensiveness that's unjustifiable," says Adam Checchi. "We all watched on TV as the heads of banks spoke [before Congress] and they didn't seem credible. It was so clear so many people were acting irresponsibly just to turn a buck."
For Prins, that's a recurring theme: "The managers didn't protect [investors] from Enron either and told them to buy the stock when their own companies said it was a piece of sh--. We have periods where it becomes more known to more people and then it's forgotten about. But it's the same idea: You're giving a lot of trust to people who have the incentive to milk you."